Question

Estimate FCFs from the project based on the

assumptions made by Robert Gates. Are you
in agreement with the assumptions made by
Robert Gates? Do you find them realistic? If
you were in Gates' place, what assumptions
would you make? Reason out each such
assumption.

Referring to the WACC schedule prepared by

Sheila Dowling, which one would you choose
as the hurdle rate, and why? Should the
WACC be used as the hurdle rate?

Would you advise Hansson to go ahead with

the investment? Support your response with
the necessary numbers.
Answer

1. The assumption of a constant 1% price increase might not hold true given how competitive the b
to increase its market share.

2. Constant S&D cost assumptions are also ineffective because we may have to pay them more to s
market.

3. Salaried labor expenditures have nearly tripled from 2009 levels, although income did not even d
in comparison to sales. This presumption might be flawed.
4. Whether the business sells the goods it is producing by expanding its capacity. It will be challeng
volume because the market is already mature and unit volume is only rising at a rate of less than 1%

A hurdle rate is the lowest rate of return a project or investment must achieve before a manager o
of capital is 9.34%, our hurdle rate is also 9.34%

As per the calculations in sheet "FCF", the NPV of the project is positive, 15585.61. Hence this inve
 FCF CALCULATION
Year 2008 2009 2010 2011 2012
Revenue 84,960.00 94,120.00 103,040.00 112,800.00
COGS (69,610.00) (75,659.30) (82,808.40) (89,847.60)
Production Cost (45,120.00) (49,400.00) (53,760.00) (58,200.00)
Manufacturing Overhead (3,600.00) (3,708.00) (3,819.00) (3,934.00)
Manufacturing Expense (2,250.00) (2,318.00) (2,387.00) (2,459.00)
Total Labor Cost (18,640.00) (20,233.30) (22,842.40) (25,254.60)
Gross Profit 15,350.00 18,460.70 20,231.60 22,952.40
SG&A (6,626.88) (7,341.36) (8,037.12) (8,798.40)
EBITDA 8,723.12 11,119.34 12,194.48 14,154.00
Depreciation (4,000.00) (4,000.00) (4,000.00) (4,000.00)
EBIT 4,723.12 7,119.34 8,194.48 10,154.00
Taxes @40% (1,889.25) (2,847.74) (3,277.79) (4,061.60)
NOPAT 2,833.87 4,271.60 4,916.69 6,092.40

Working Capital Calculation

Accounts Recievable 11,233.60 12,444.76 13,624.18 14,914.67
Inventory 7,270.38 7,902.19 8,648.88 9,384.08
Accounts Payable (6,612.95) (7,187.63) (7,866.80) (8,535.52)
Working Capital 12,817.00 11,891.03 13,159.32 14,406.26 15,763.23
Changes in NWC (925.97) 1,268.29 1,246.94 1,356.97

FCF Calculation
NOPAT 2,833.87 4,271.60 4,916.69 6,092.40
Depreciation 4,000.00 4,000.00 4,000.00 4,000.00
Change in NWC (925.97) 1,268.29 1,246.94 1,356.97
Changes in Capex 45,000.00 - - - -
FCF (45,000.00) 7,759.84 7,003.32 7,669.75 8,735.43

Present Value Calculation

Period (in years) - 1.00 2.00 3.00 4.00
Present Value Factor 1.000 0.915 0.836 0.765 0.700
Present Value of FCF (45,000.00) 7,096.67 5,857.43 5,866.59 6,110.70

Net Present Value 15,585.61

IRR 5.97%
ALCULATION
2013 2014 2015 2016 2017 2018
122,880.00 132,600.00 135,320.00 138,040.00 140,760.00 144,160.00
(97,478.80) (104,989.50) (106,955.60) (108,963.50) (111,016.60) (113,118.20)
(62,720.00) (67,320.00) (68,000.00) (68,680.00) (69,360.00) (70,040.00)
(4,052.00) (4,173.00) (4,299.00) (4,428.00) (4,560.00) (4,697.00)
(2,532.00) (2,608.00) (2,687.00) (2,767.00) (2,850.00) (2,936.00)
(28,174.80) (30,888.50) (31,969.60) (33,088.50) (34,246.60) (35,445.20)
25,401.20 27,610.50 28,364.40 29,076.50 29,743.40 31,041.80
(9,584.64) (10,342.80) (10,554.96) (10,767.12) (10,979.28) (11,244.48)
15,816.56 17,267.70 17,809.44 18,309.38 18,764.12 19,797.32
(4,000.00) (4,000.00) (4,000.00) (4,000.00) (4,000.00) (4,000.00)
11,816.56 13,267.70 13,809.44 14,309.38 14,764.12 15,797.32
(4,726.62) (5,307.08) (5,523.78) (5,723.75) (5,905.65) (6,318.93)
7,089.94 7,960.62 8,285.66 8,585.63 8,858.47 9,478.39

g Capital Calculation
16,247.47 17,532.67 17,892.31 18,251.96 18,611.60 19,061.16
10,181.12 10,965.57 11,170.92 11,380.63 11,595.07 11,814.57
(9,260.49) (9,974.00) (10,160.78) (10,351.53) (10,546.58) (10,746.23)
17,168.10 18,524.23 18,902.45 19,281.06 19,660.09 20,129.49
1,404.87 1,356.13 378.21 378.61 379.03 469.40

CF Calculation
7,089.94 7,960.62 8,285.66 8,585.63 8,858.47 9,478.39
4,000.00 4,000.00 4,000.00 4,000.00 4,000.00 4,000.00
1,404.87 1,356.13 378.21 378.61 379.03 469.40
- - - - - -
9,685.06 10,604.49 11,907.45 12,207.02 12,479.44 13,008.99

nt Value Calculation
5.00 6.00 7.00 8.00 9.00 10.00
0.640 0.585 0.535 0.489 0.448 0.409
6,195.99 6,204.39 6,371.33 5,973.41 5,584.83 5,324.27
 WACC CALCULATION

Cost of Equity
Particular Value
Asset Beta 1.18
D/V 20.9%
D/E 26.4%
Tax Rate 40%
Equity Beta 1.37
Rf 3.75%
ERP 5%
Ke 10.59%

WACC Calculation
Particular Value
Kd 7.75%
Ke 10.59%
Wd 20.9%
We 79.1%
Tax Rate 40%
WACC 9.34%
 REVENUE PROJECTIONS - FROM EXHIBIT 5
Year 2009 2010 2011 2012
Total Capacity (000’s) 80,000.00 80,000.00 80,000.00 80,000.00
Capacity Utilization 0.60 0.65 0.70 0.75
Unit Volume 48,000.00 52,000.00 56,000.00 60,000.00
Selling Price Per Unit – Growing at 2.0% 1.77 1.81 1.84 1.88
Revenue 84,960.00 94,120.00 103,040.00 112,800.00

Production Costs:
Raw Materials Per Unit Growing at 1% 0.94 0.95 0.96 0.97
Manufacturing Overhead Growing at 3.0% 3,600.00 3,708.00 3,819.00 3,934.00
Maintenance Expense Growing at 3.0% 2,250.00 2,318.00 2,387.00 2,459.00

Salaried Labor Cost:

Managers 4.00 4.00 6.00 6.00

Average Annual Fully Loaded Cost Growing 160.00 165.60 171.40 177.40
at 3.5%
Total Salaried Labor Cost 640.00 662.40 1,028.40 1,064.40

Hourly Labor Cost:

Average Fully Loaded Hourly Cost Growing 20.00 20.70 21.42 22.17
at 3.5%
Hours Per Year 2,000.00 2,000.00 2,000.00 2,000.00
Cost Per Hourly Employee 40,000.00 41,400.00 42,849.00 44,349.00
Number of Hourly Workers 450.00 473.00 509.00 545.00
Total Hourly Labor Cost (000’s) 18,000.00 19,570.90 21,814.00 24,190.20
Total Labor Cost 18,640.00 20,233.30 22,842.40 25,254.60

Selling, General, & Administrative/Revenue 7.80% 7.80% 7.80% 7.80%

Working Capital Assumptions

Days of Sales Outstanding 47.60 47.60 47.60 47.60
Days of Sales Inventory 37.60 37.60 37.60 37.60
Days Payable Outstanding 34.20 34.20 34.20 34.20

Depreciation Schedule
Cost Components Amount Est.Life Deprecation
Facility Expansion 10,000 20yrs. 500
Manufacturing Equipment 20,000 10yrs. 2,000
Packaging Equipment 15,000 10yrs. 1,500
Working Capital(1) 12,817 0
Total Investment 57,817 4,000
CTIONS - FROM EXHIBIT 5
2013 2014 2015 2016 2017 2018
80,000.00 80,000.00 80,000.00 80,000.00 80,000.00 80,000.00
0.80 0.85 0.85 0.85 0.85 0.85
64,000.00 68,000.00 68,000.00 68,000.00 68,000.00 68,000.00
1.92 1.95 1.99 2.03 2.07 2.12
122,880.00 132,600.00 135,320.00 138,040.00 140,760.00 144,160.00

0.98 0.99 1.00 1.01 1.02 1.03

4,052.00 4,173.00 4,299.00 4,428.00 4,560.00 4,697.00
2,532.00 2,608.00 2,687.00 2,767.00 2,850.00 2,936.00

8.00 8.00 8.00 8.00 8.00 8.00

183.60 190.00 196.70 203.60 210.70 218.10

1,468.80 1,520.20 1,573.40 1,628.50 1,685.50 1,744.50

22.95 23.75 24.59 25.45 26.34 27.26

2,000.00 2,000.00 2,000.00 2,000.00 2,000.00 2,000.00

45,901.00 47,507.00 49,170.00 50,891.00 52,672.00 54,516.00
582.00 618.00 618.00 618.00 618.00 618.00
26,706.00 29,368.20 30,396.10 31,460.00 32,561.10 33,700.70
28,174.80 30,888.50 31,969.60 33,088.50 34,246.60 35,445.20

7.80% 7.80% 7.80% 7.80% 7.80% 7.80%

Capital Assumptions
47.60 47.60 47.60 47.60 47.60 47.60
37.60 37.60 37.60 37.60 37.60 37.60
34.20 34.20 34.20 34.20 34.20 34.20